EIU Global Forecasting Service

China suffers a disorderly and prolonged economic downturn

Low probability, Very high impact; Risk intensity =

January 24th 2018Introduction

China's three-day Central Economic Work Conference (CEWC), an annual meeting of policymakers, concluded in late December, setting out economy policy priorities for 2018. Softer language on deleveraging hints that efforts to reduce debt in 2018 will not be as aggressive as we had assumed.

Analysis

Although the softening language may well store up trouble for the future, it does lessen the shorter-term threats to the economy from an attempted deleveraging getting out of hand, meaning that the risk of a major and uncontrolled slump in 2018-19 has fallen back. Nevertheless, this does not mean that such a risk has dissipated entirely. There is still a risk that the authorities will not be able to firewall defaults in the opaque shadow financing sector, or that efforts to slow credit growth, even moderately, with new regulations will prove more disruptive than anticipated. Although it is likely that the authorities would make every effort to prevent a funding crunch in any bank, even a hint that this type of problem was emerging could cause major financial-sector problems, given the boom in debt over recent years. Resolving these issues could force the economy into a sudden downturn. The bursting of credit bubbles elsewhere has usually been associated with sharper decelerations in economic growth, and, if accompanied by a house-price slump, the government may struggle to maintain control of the economy - especially if a slew of China's small and medium-sized banks, which are more reliant on wholesale funding, falter.

Conclusion

If the Chinese government is unable to prevent a disorderly downward economic spiral, this would lead to much lower global commodity prices, particularly in metals. This, in turn, would have a detrimental effect on the Latin American, Middle Eastern and Sub-Saharan African economies that had benefited from the earlier Chinese-driven boom in commodity prices. In addition, given the growing dependence of Western manufacturers and retailers on demand in China and other emerging markets, a disorderly slump in Chinese growth would have a severe global impact - far more than would have been the case in earlier decades.